Financial Analysts and Collective Reputation: Theory and Evidence

Abstract

This paper studies the impact of collective reputation on the reporting strategy of experts that face conflicts of interest. The framework we propose applies to different settings involving decision makers that rely on experts for making informed decisions, in particular we consider sell-side financial analysts. We find that collective reputation has a non-monotonic effect on the degree of information revelation. In general, truthful revelation is more likely to occur when there is more uncertainty on the average ability of analysts as a group. In particular, above a certain threshold, an increase in collective reputation always makes truthful revelation more difficult to achieve. We test this theory by creating an index on the market's perception of the general reliability of analysts' recommendations. The empirical analysis provides evidence that collective reputation plays a role in determining the behavior of analysts independently of their individual reputation.